Envy of World Economy Belied by Ailing Australia Industries

By Michael Heath -
Aug 11, 2011

Looking out over aging warehouses in
Unanderra, two hours' drive south of Sydney, 61-year-old Tom
Folino-Gallo curses the strength of the Australian dollar as
truck horns blare support for picketers at a nearby factory.

“The ripple effect is more catastrophic than the Japanese
tsunami in this region,” said Folino-Gallo, owner of WGE Group,
which supplies steel and cement makers. “This dip on the
rollercoaster is the scariest I’ve ever experienced.”

Folino-Gallo’s worries reflect the divide in an economy
that Treasurer Wayne Swan called the “envy of the developed
world” a day before the government reported the biggest
quarterly drop in employment for a decade. Australia’s mining
boom, which kept the country out of the 2009 global recession,
lifted the currency to a record last month, cutting profit at
BlueScope Steel Ltd. and pushing companies such as toll-operator
RiverCity Motorway Group into bankruptcy protection.

The Australian dollar touched $1.1081 on July 27 fueled by
a central bank that this month considered raising the developed
world’s highest interest rates to rein in resources-fueled
inflation. Sustained currency strength would reverse a three-
decade effort dating back to Bob Hawke’s 1980s Labor government
to reduce dependence on agriculture and minerals and diversify
an economy that rode “on the sheep’s back.”

Productivity

Reserve Bank Governor Glenn Stevens said the stronger
currency, a decline in consumption and higher savings may be
Australia’s new economic reality, and the only way for
industries to cope is to reverse a decline in productivity.

“Everything comes back to productivity,” Stevens said in
a July 25 speech. “It always does.”

An Australian government measure of labor productivity
declined to 1.7 percent in the five years through 2010, from 3.1
percent a decade earlier, according to a report this year by
Saul Eslake and Marcus Walsh of the endowment-funded Grattan
Institute.

“The solution to some of the problems faced by industries
suffering the side effects of the mining boom is higher levels
of productivity,” Eslake said in an interview. When the mining
boom ends, Australia will see a slowdown in the rate living
standards improve at best and at worst “an outright decline in
our living standards as we saw in a relative sense during the
‘80s and early ‘90s,’’ he said.

Rising Unemployment

In a sign Australia’s economy isn’t insulated by the surge
in resource investment, a government report yesterday showed
unemployment rose last month for the first time since October.
The local dollar this week dropped below parity with the U.S.
currency for the first time in five months as stock and
commodity prices tumbled on concern fiscal crises in the U.S.
and Europe will slow global growth.

Annette Beacher, head of Asia-Pacific research at TD
Securities in Singapore, said the currency’s decline may present
a buying opportunity.

‘‘The Australia dollar at parity is an attractive entry
level for believers of the medium-term Asian growth story,” she
said this week. “While short bonds are expensive, it’s best to
express our view via extending duration by moving up the curve,
remaining long bonds overall. We also remain of the view that
the 10-year spread between the U.S. and Australian bonds can
compress to +160 basis points by year end.”

Mining Windfall

Australia earns more than A$8 billion ($8.3 billion) a
month from iron ore and coal exports, largely to feed mills and
furnaces in China, and the new mines and gas fields in the west
of the country have lured jobseekers from the factories and
offices in the east. Even after the last quarter’s jobs decline,
Australia’s unemployment level is 5.1 percent, nearly half the
rate in the euro zone.

Near-full employment hasn’t given a lift to Prime Minister
Julia Gillard, who is struggling for support of her agenda as
popularity ratings sink to among the lowest of her year-old
tenure.

“The labor market reforms the government has put in place
are going the wrong way -- they actually reduce productivity,”
said Gavin Stacey, chief interest-rate strategist at Barclays
Capital in Sydney. The poor productivity means “you can’t use
weak growth as an excuse not to raise interest rates.”

Meanwhile, Australia’s steel industry is losing A$2 million
for every 1 cent gain in the local currency against the U.S.
dollar. As the so-called Aussie jumped about 15 percent in the
past year, the shares of BlueScope, the country’s biggest
steelmaker, fell 59 percent.

BlueScope’s Struggles

BlueScope Steel expects writedowns in the year ended June
30 of about A$900 million, the company said in a statement late
yesterday, citing the strong currency, high raw material costs
and low prices. The local dollar traded at $1.0321 at 12:01 p.m.
in Sydney.

“Many firms facing international competition are re-
evaluating their medium-term prospects and business strategies,
given an assessment that the high exchange rate is likely to
persist and is not just a temporary development,” the RBA said
in a quarterly policy statement released in Sydney last week.

Australia’s unemployment rate unexpectedly jumped to an
eight-month high in July as hiring stalled, making the 41,400
net gain in jobs from January through July the worst first seven
months of the year since 2003.

The central bank said slower productivity growth has been
masked by the gain in the terms of trade, or export prices
relative to import prices, which rose to a record last quarter.

“With the terms of trade expected to decline somewhat over
the next few years as additional global commodity supply comes
on line, a return to faster rates of productivity growth is
likely to be required if living standards are to continue to
rise at the average rate of the past two decades,” the RBA said
in its Aug. 5 policy statement.

A block from Folino-Gallo’s office in Unanderra, Brenton
Ward, a 26-year-old father of one, protests with 30 other
employees outside the plant of Japan’s Shinagawa Refractories
Co., which plans to cut benefits.

“We’ve had blokes that have worked here for 25 years and
they’ve always got a bonus and they’ve taken that off us,” said
Ward, waving a red flag emblazoned with CFMEU, Australia’s main
trade union for construction, forestry, mining and energy.
“We’re going to run rolling strikes until it’s resolved.”
Shinagawa declined to comment on the workers’ action.

Plant Closings

Down the street, Orrcon Steel is shutting its Unanderra
tube plant, affecting 47 workers. The company, owned by Hills
Holdings Ltd., maker of the Hills Hoist clothesline, cited
“unsustainable” losses due to the currency and aggressive
import competition.

Australia has seen the cycle before. Twenty-five years ago,
as exports collapsed because of weak international commodity
prices, then-Treasurer Paul Keating warned the nation risked
becoming a “banana republic” if it failed to change.

“If this government cannot get the adjustment, get
manufacturing going again, and keep moderate wage outcomes and a
sensible economic policy, then Australia is basically done
for,” Keating said in an interview with radio 2UE on May 14,
1986, after the nation recorded what was then its biggest
current account deficit. “We will end up being a third-rate
economy.”

His comments sent the currency plummeting and prompted
policy makers to tackle inefficiencies in the economy, encourage
innovation and boost productivity, spawning new businesses in
education, technology and tourism.

Technology

One that Keating touted and invested in was audio company
Lake Technology Ltd., which listed in 1999, just before the dot-
com bust, and was bought by San Francisco-based Dolby
Laboratories Inc. in 2005 after the shares declined more than 90
percent from their peak.

Australia’s current Finance Minister Penny Wong says the
government wants an economy “sufficiently diversified” to
ensure resilience during different cycles of global economic
growth.

“There’s no doubt that a high dollar does impose some
challenges,” she said in an interview in Sydney. “Firms will
have to ensure that their business models are such that they can
be competitive in a global economy.”

For many, that isn’t happening. Australia’s services
industry has contracted for three straight months; manufacturing
for four of the past five; and construction for 14 consecutive
months, private gauges show. Survey respondents cite the
currency’s strength and the developed world’s highest interest
rates as key factors.

Shifting Migration

The structural changes in Australia’s economy correspond
with altering patterns of migration. For the first time in its
223-year history, Australia accepted more Chinese than British
immigrants in the year to June 30, the government said this
week.

Since 2005, which the central bank marks as the beginning
of the current mining boom, employment in manufacturing has
decreased by about 6 percent, or 59,000 jobs, according to Gary Banks, chairman of Australia’s Productivity Commission. He
attributes that to a long-term shift in the economy rather than
a response to the soaring local dollar.

In Unanderra, Folino-Gallo is skeptical that shift will
last.

“I don’t believe in seven years China will be dependent on
any one single country,” he said. “We are repeating our
mistakes over and over again.”